Safety inventory

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Supply Chain Management

Supply Chain Management

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  • Mention that of the four logistical drivers mentioned earlier, we will first focus on inventories. Information will be show up throughout. Recall the three levels of fit. We will start by discussing level I for for inventory and then move on to level III fit. What is the key objective of a supply chain? Make profits and get good return on assets. What is the key to success here? Matching supply and demand. Discuss over and under stocking. Give examples and mention the importance in today’s environment where product variety is increasing and life cycles are shrinking. What is the key to improved matching of supply and demand? Cycle or Flow time. What is key to reducing flow time? Reducing buffer inventories. Why do buffer inventories build? Discuss and list Economies of scale, uncertainty, and seasonal variability. Discuss quantity discounts highlighting the impact on batching and cycle time in spite of no fixed costs. Discuss trade promotions and short term discounting with a derivation for the quantity. Show the impact of small trade promotions and discuss chicken noodle soup example. Mention EDLP.
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  • 1. © 2007 Pearson Education MANAGING UNCERTAINTY IN THE SUPPLY CHAIN SAFETY INVENTORY 11-1 SUPPLY CHAIN MANAGEMEN T
  • 2. © 2007 Pearson Education ROLE OF INVENTORY IN THE SUPPLY CHAIN Improve Matching of Supply and Demand Improved Forecasting Reduce Material Flow Time Reduce Waiting Time Reduce Buffer Inventory Economies of Scale Supply / Demand Variability Seasonal Variability Cycle Inventory Safety Inventory Figure Error! No text of Seasonal Inventory 11-2
  • 3. © 2007 Pearson Education THE ROLE OF SAFETY INVENTORY IN A SUPPLY CHAIN  Forecasts are rarely completely accurate  If you keep only enough inventory in stock to satisfy average demand, half the time you would run out  Safety inventory: Inventory carried for the purpose of satisfying demand that exceeds the amount forecasted in a given period 11-3
  • 4. © 2007 Pearson Education TWO QUESTIONS TO ANSWER IN PLANNING SAFETY INVENTORY  What is the appropriate level of safety inventory to carry?  What actions can be taken to improve product availability while reducing safety inventory? 11-4
  • 5. © 2007 Pearson Education DETERMINING THE APPROPRIATE LEVEL OF SAFETY INVENTORY  Measuring demand uncertainty  Measuring product availability  Replenishment policies  Evaluating cycle service level and fill rate  Evaluating safety level given desired cycle service level or fill rate  Impact of required product availability and uncertainty on safety inventory 11-5
  • 6. © 2007 Pearson Education DETERMINING THE APPROPRIATE LEVEL OF DEMAND UNCERTAINTY  Appropriate level of safety inventory determined by:  supply or demand uncertainty  desired level of product availability  Higher levels of uncertainty require higher levels of safety inventory given a particular desired level of product availability  Higher levels of desired product availability require higher levels of safety inventory given a particular level of uncertainty 11-6
  • 7. © 2007 Pearson Education MEASURING DEMAND UNCERTAINTY  Demand has a systematic component and a random component  The estimate of the random component is the measure of demand uncertainty  Random component is usually estimated by the standard deviation of demand  Notation: D = Average demand per period σD = standard deviation of demand per period L = lead time = time between when an order is placed and when it is received  Uncertainty of demand during lead time is what is important 11-7
  • 8. © 2007 Pearson Education MEASURING DEMAND UNCERTAINTY  P = Demand during k periods = kD  Ω = Standard deviation of demand during k periods  = σR Sqrt(k)  Coefficient of variation = cv = µ/σ = mean/(std dev) = size of uncertainty relative to demand 11-8
  • 9. © 2007 Pearson Education MEASURING PRODUCT AVAILABILITY  Product availability: a firm’s ability to fill a customer’s order out of available inventory  Stockout: a customer order arrives when product is not available  Product fill rate (fr): fraction of demand that is satisfied from product in inventory  Order fill rate: fraction of orders that are filled from available inventory  Cycle service level: fraction of replenishment cycles that end with all customer demand met 11-9
  • 10. © 2007 Pearson Education REPLENISHMENT POLICIES  Replenishment policy: decisions regarding when to reorder and how much to reorder  Continuous review: inventory is continuously monitored and an order of size Q is placed when the inventory level reaches the reorder point ROP  Periodic review: inventory is checked at regular (periodic) intervals and an order is placed to raise the inventory to a specified threshold. 11-10
  • 11. © 2007 Pearson Education CONTINUOUS REVIEW POLICY: SAFETY INVENTORY AND CYCLE SERVICE LEVEL L: Lead time for replenishment D: Average demand per unit time σD:Standard deviation of demand per period DL:Mean demand during lead time σL: Standard deviation of demand during lead time CSL: Cycle service level ss: Safety inventory ROP: Reorder point 11-11 ),,( )( 1 σ σ σσ LL L LS DL L D D F D ROPFCSL ssROP CSLss L DL = += ×= = = − Average Inventory = Q/2 + ss
  • 12. © 2007 Pearson Education FILL RATE  Proportion of customer demand satisfied from stock  Stock out occurs when the demand during lead time exceeds the reorder point  ESC is the expected shortage per cycle (average demand in excess of reorder point in each replenishment cycle)  ss is the safety inventory  Q is the order quantity       +       −−= −= σ σ σ L SL L S ss f ss FssESC Q ESC fr }1{ 1
  • 13. © 2007 Pearson Education FACTORS AFFECTING FILL RATE  Safety inventory: Fill rate increases if safety inventory is increased. This also increases the cycle service level.  Lot size: Fill rate increases on increasing the lot size even though cycle service level does not change. 11-13
  • 14. © 2007 Pearson Education Impact of Supply Uncertainty D: Average demand per period  σD: Standard deviation of demand per period  L: Average lead time  sL: Standard deviation of lead time 11-14 sD D LDL L L DL 222 += = σσ
  • 15. © 2007 Pearson Education IMPACT OF AGGREGATION ON SAFETY INVENTORY  Information centralization  Specialization  Product substitution  Component commonality  Postponement 11-15
  • 16. © 2007 Pearson Education INFORMATION CENTRALIZATION  Information system that allows access to current inventory records in all warehouses from each warehouse  Most orders are filled from closest warehouse  In case of a stockout, another warehouse can fill the order  Better responsiveness, lower transportation cost, higher product availability, but reduced safety inventory  Examples: McMaster-Carr, Gap, Wal-Mart 11-16
  • 17. © 2007 Pearson Education PRODUCT SUBSTITUTION  Substitution: use of one product to satisfy the demand for another product  Manufacturer-driven one-way substitution  Customer-driven two-way substitution 11-17
  • 18. © 2007 Pearson Education COMPONENT COMMONALITY  Using common components in a variety of different products  Can be an effective approach to exploit aggregation and reduce component inventories 11-18
  • 19. © 2007 Pearson Education POSTPONEMENT  The ability of a supply chain to delay product differentiation or customization until closer to the time the product is sold  Goal is to have common components in the supply chain for most of the push phase and move product differentiation as close to the pull phase as possible  Examples: Dell, Benetton 11-19
  • 20. © 2007 Pearson Education ESTIMATING AND MANAGING SAFETY INVENTORY IN PRACTICE  Account for the fact that supply chain demand is lumpy  Adjust inventory policies if demand is seasonal  Use simulation to test inventory policies  Monitor service levels  Focus on reducing safety inventories 11-20
  • 21. © 2007 Pearson Education IMPACT OF HIGH & LOW SAFETY STOCK
  • 22. © 2007 Pearson Education Thank You